Fed Vice-Chair Janet Yellen will soon be Fed Chair Janet Yellen, the first woman to get the top job at the world’s most powerful central bank (and, ahem, the first female central banker in general). There are lots of good what-you-need-to-know-about-her lists out there. At the end of the day, though, the one thing we all want to know the most is: How will she handle the taper?
The exact date when the Fed starts drawing down on cash injections likely depends more on the outcome of the current fiscal standoff and its impact on the recovery than on the personal inclinations and intellectual leanings of whoever happens to the lead the U.S. central bank. As far as what you might call “the Yellen factor,” though, I can think of three relevant things to keep in mind:
There is no reason to think that she will delay tapering longer than Fed Chairman Ben Bernanke would have. Yellen is sometimes portrayed as a dove for her heavy research and policy focus on unemployment, rather than inflation. However, she has consistently sided with the consensus within the Federal Open Market Committee, the Fed’s rate-setting body. There isn’t a single vote on record in which she expressed a dovish dissent—that is, pushing for more action to stimulate the economy than the majority of the Committee deemed appropriate. Also, in 1996 she urged then-chairman Alan Greenspan to raise interest rates in order to stem what she worried would be an impending rise in inflation. Greenspan didn’t budge, and Yellen’s fears never materialized, but the episode goes to show the future chairman is by no means indifferent to the Fed’s worthy goal of maintaining price stability. On the other hand, Yellen might decide to hold off scaling back the QE stimulus if the current government shutdown and debt-ceiling battle last long enough to take a sizable toll on the economy or end with a deal that entails more heavy-handed spending cuts. Just like Bernanke, the chairwoman-to-be has been a harsh critic of austerity and will want to counteract the impact of more federal belt-tightening with monetary policy, if she can.
Yellen’s weapon of choice will be words, not cash. Delay as she might the tapering, the signature monetary policy tool of the next Fed chair will be forward guidance, not quantitative easing. As I noted a couple of weeks ago, buying $85 billion a month in Treasurys and mortgage-backed securities is no longer keeping long-term interest rates as low as it used to. And fears that Washington might actually—however partially and briefly—default on its debt certainly isn’t helping. The Fed has long been turning away from QE and putting greater emphasis on forward guidance; in other words, trying to affect consumer and businesses behaviour by making promises about the future course of monetary policy. The key such pledge right now is that the Fed will keep will keep its target interest rate (which affects rates throughout the economy) at rock bottom until unemployment has dropped to at least 6.5%. The idea is to keep borrowing cheap in order to get American families and firms to spend more and increase economic activity. The art of forward guidance is the art of making clear, credible promises and the Fed’s record on this has been a bit spotty. In particular, the message Bernanke delivered at the latest press conference was decidedly muddled. The good news is that Yellen is known for being a great communicator.
We know what Yellen looks at when she looks at the U.S. job market. Assuming that inflation remains subdued, the Fed will only proceed with tapering if it is satisfied that doing so won’t harm the chances of America’s job seekers. So when might Janet Yellen be so satisfied? As CIBC’s Emanuella Enenajor noted in a research note on Wednesday, the future chairwoman has given us a neat list of her preferred labour market indicators in a March 2013 speech. (I also wrote about here.) Besides the non farm payroll numbers, she relies on the Job Openings and Labor Turnover Survey—which shows layoffs, quits and hires as a share of employment—and the real pace of spending growth. So far, only the layoff rate has returned to normal, pre-recession levels.
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